Tesla is Not A Stock You Should Short

What a market. The short sellers must be rubbing their hands with glee.

This is when you borrow stock you don’t own and sell it in the market. You hope it will go down, so you can buy back the stock at a lower price and redeem the lender.

It’s a strategy a lot of hedge funds employ, usually the long short funds, which buy the cheapest stocks and sell the most expensive.

Anything they’ve touched on the ASX yesterday has gone down. Of the thousands of stocks on the ASX only one hit a 52-week high. 147 others hit 52-week lows.

Had you shorted many of the tech stocks in the US, you’d also be doing pretty well.

Since the beginning of October, the NASDAQ is down 7.3%. Getting the worst of that are the companies yet to make a profit.

Had you shorted a bunch of Chinese stocks you’d also be doing pretty well. Most indices in China have dropped to double digits this year.

But had you just recently shorted Tesla, Inc. [NASDAQ:TSLA], you might not be as happy.

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Why Investors aren’t shorting Tesla

How could you not make money shorting Tesla in this market?

Most tech stocks are going down. Tesla’s founder and CEO is all over the place. The company has made no real returns for shareholders, accumulated losses total US$5.8 billion. And the electric vehicle (EV) market is yet to really take hold.

If investors hate uncertainty, why aren’t they shorting Tesla more?

Yesterday, the company pulled off a historic quarter (Elon’s words, not mine). It was one of the very few times the EV maker made a profit.

Third quarter automotive sales almost doubled on second quarter figures. Profits jumped to US$312 million. Pulling its weight was Tesla’s Model 3. It was the top selling EV by sales and fifth best-selling EV by volume.

MoneyMorning 26-10-18

Source: Tesla
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I guess in hindsight, shorting Tesla was a risky move. Of the 15 analysts following Tesla, not one expected the company to make money in the third quarter.

Most other investors were also on the ‘I hate Elon Musk’ bandwagon. Short sellers were already all over the stock. If any big movement was going to happen, it was going to happen on the upside.

Reuters writes:

Free cash flow of $US881 million — only the third time that number has been positive in Tesla’s history — was helped by a surge of new production of the Model 3, controlled spending and lower capital expenditures.

So, had you been one of the unlucky few that shorted Tesla two weeks ago, you’d now be down double digits.

Will those losses last? I don’t think so.

Tesla is still carrying a lot of debt. There’s US$2.5 billion in short-term borrowings and another US$9.5 billion in longer-term debt.

In the second quarter, the interest on this debt alone was more than US$163 million. Compare that to their Q3 operating earnings and Tesla covers interest just over two times.

Luckily, they have more than US$3 billion in cash on the books. And because of low capital expenditures, the company is even generating free cash flow (essentially free cash).

But the problem lies in the nature of Tesla’s industry.

It costs a lot to be an auto maker. Materials, factories, parts…it all costs money, billions in fact.

As we speak, Tesla is spending billions to construct factories in China. And if they want to increase capacity, or just bring out a new model, they’ll have to build more factories and then fit them out.

So how does Tesla do this with no up-front cash? Sure, they get some cash from pre-orders. But it’s not nearly enough to cover the costs. That’s why the company has taken on so much debt.

Anyone buying Tesla, like Andrew Left (a notorious short seller), believes the assumption of ever-rising EV demand and Tesla’s growing market share within that industry.

When asked why he was now buying Tesla after shorting the stock for so long, Left said it was plain and simple, ‘Tesla is destroying the competition’.

Like a magic trick, while everyone is focused on Elon smoking weed, he is quietly smoking the whole automotive industry.

Maybe Left’s investment will come good in the end. But the way I see it, there are far more negatives than positives.

I know Musk has a vision for his company. He wants Tesla to become a movement. A brand that stands for a better world.

And up until now, I would argue he has built a great brand.

Tesla is probably the first name you think of when anyone says electric car. Anyone you see driving a Tesla, likely has a few bob to spare and can afford luxuries in life.

But Elon can’t have his cake and eat it too. He can’t flood consumers with cheap Teslas and expecting the brand to hold up.

It also doesn’t help that he wants to compete with the pinnacle of efficiency: Toyota Motor Corp [TYO:7203]. Toyota has spent decades learning how to make cars cheap and fast.

Instead of trying to beat Toyota at its own game (which might require a whole revamp of Tesla’s production processes), why not remain the luxury EV model…the EV that symbolises status and wealth?

It just doesn’t make sense…

Why you shouldn’t short Tesla

Yet even considering debt, uncertainty of future earnings and stiff competition, I still wouldn’t short Tesla.

Why? Because you shouldn’t short stock based solely on silly valuations. You should short frauds trading at silly valuations.

So, when the price does drop to zero, you make the full 100%, sometimes more when leverage is involved.

Stay long,

Harje Ronngard,
Editor, Money Morning

PS:Three speculative lithium punts could make you a small fortune as battery demand reaches fever pitch. Find out more here.

Money Morning is Australia’s most outspoken financial news service. Your Money Morning editorial team are not afraid to tell it like it is. From calling out politicians to taking on the housing industry, our aim is to cut through the hype and BS to help you make sense of the stories that make a difference to your wealth. Whether you agree with us or not, you’ll find our common-sense, thought provoking arguments well worth a read.

Money Morning Australia is published by Port Phillip Publishing, an independent financial publisher based in Melbourne, Australia. As an Australian financial services license holder we are subject to the regulations and laws of Corporations Act and Financial Services Act.

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